Chapter 8
Regional Economic Integration
What Is Regional Economic Integration?
• Regional economic integration - agreements
between countries in a geographic region to
reduce tariff and non-tariff barriers to the free
flow of goods, services, and factors of
production between each other
Question:
Is regional economic integration a good thing?
Answer:
• While regional trade agreements are designed
to promote free trade, there is some concern
that the world is moving toward a situation in
which a number of regional trade blocks
compete against each other
– if this scenario materializes, the gains
from free trade within blocs could be
offset by a decline in trade between
blocs
Levels of Regional Economic Integration
Five levels of economic integration
1. Free trade area - eliminates all barriers to the
trade of goods and services among member
countries
– European Free Trade Association
(EFTA) - Norway, Iceland,
Liechtenstein, and Switzerland
– North American Free Trade
Agreement (NAFTA) - U.S., Canada,
and Mexico
2. Customs union - eliminates trade barriers
between member countries and adopts a
common external trade policy
– Andean Pact (Bolivia, Columbia,
Ecuador and Peru)
3. Common market – has no barriers to trade
between member countries, a common
external trade policy, and the free movement
of the factors of production
 can be difficult to achieve and
requires significant harmony
among members in fiscal,
monetary, and employment
policies
– MERCOSUR (Brazil, Argentina,
Paraguay, and Uruguay)
4. Economic union - has the free flow of
products and factors of production between
members, a common external trade policy, a
common currency, a harmonized tax rate, and
a common monetary and fiscal policy
 involves sacrificing a significant
amount of national sovereignty
• European Union (EU)
5. Political union - independent states are
combined into a single union
 involves a central political apparatus
that coordinates the economic, social,
and foreign policy of member states
• The EU is headed toward at
least partial political union,
and the United States is an
example of even closer
political union
Why Should Countries Integrate Their Economies?

• All countries gain from free trade and

investment - regional economic integration is
an attempt to exploit the gains from free trade
and investment

• Linking countries together, making them more

dependent on each other

 creates incentives for political

cooperation and reduces the likelihood
of violent conflict

 gives countries greater political clout

when dealing with other nations

What Limits Efforts at Integration?

• Economic integration can be difficult because

 while a nation as a whole may benefit

from a regional free trade agreement,
certain groups may lose

 it implies a loss of national

sovereignty

• Regional economic integration is only

beneficial if the amount of trade it creates
exceeds the amount it diverts

 trade creation occurs when low cost

producers within the free trade area
replace high cost domestic producers

 trade diversion occurs when higher

cost suppliers within the free trade
area replace lower cost external
suppliers

Regional Economic Integration in Europe

• Europe has two trade blocs

1. The European Union (EU) with 27 members

2. The European Free Trade Area (EFTA)

with 4 members

• The EU is seen as the world’s next economic

and political superpower of the same order as
the United States.
The European Union
• The devastation of two world wars on Western
Europe prompted the formation of the EU
 Members wanted lasting peace and to
hold their own on the world’s political
and economic stage
• Forerunner was the European Coal and Steel
Community (1951)
• The European Economic Community (1957)
was formed at the Treaty of Rome with the
goal of becoming a common market
• The Single European Act (1987)
 committed the EC countries to work
toward establishment of a single
market by December 31, 1992
 was born out of frustration among EC
members that the community was not
living up to its promise
 provided the impetus for the
restructuring of substantial sections of
European industry allowing for faster
economic growth than would
otherwise have been the case
Political Structure of the European Union
• The European Council - resolves major
policy issues and sets policy directions
• The European Commission - responsible for
implementing aspects of EU law and
monitoring member states to ensure they are
complying with EU laws
• The Council of the European Union - the
ultimate controlling authority within the EU
• The European Parliament - debates
legislation proposed by the commission and
forwarded to it by the council
• The Court of Justice - the supreme appeals
court for EU law
The Establishment of the Euro
• The Maastricht Treaty committed the EU to
adopt a single currency, the euro
 created the second largest currency
zone in the world after that of the U.S.
dollar
 used by 16 of the 27 member states
 Britain, Denmark and Sweden opted
out
 countries that participate have agreed
to give up control of their monetary
policy
• since its establishment January 1, 1999, the
euro has had a volatile trading history with the
U.S. dollar
 Is The Euro a Good Thing?
• Benefits of the euro
 savings from having to handle one
currency, rather than many
 it is easier to compare prices across
Europe, so firms are forced to be more
competitive
 gives a strong boost to the
development of highly liquid Pan-
European capital market
 increases the range of investment
options open both to individuals and
institutions
• Costs of the euro
 loss of control over national monetary
policy
 EU is not an optimal currency area
 Economic Integration in The
Americas
• There is a move toward greater regional
economic integration in the Americas
• The biggest effort is the North American
Free Trade Area (NAFTA)
• Other efforts include the Andean Community
and MERCOSUR
• There are also attempts to form a Free Trade
Area of the Americas
Economic Integration in The Americas
• North American Free Trade Agreement
(NAFTA)
• The North American Free Trade Area
(NAFTA, 1994)
 includes the United States, Canada,
and Mexico
 abolished tariffs on 99% of the goods
traded between members
 removed most barriers on the cross-
border flow of services
 protects intellectual property rights
 removes most restrictions on FDI
between the three member countries
 allows each country to apply its own
environmental standards
 establishes two commissions to
impose fines and remove trade
privileges when environmental
standards or legislation involving
health and safety, minimum wages, or
child labor are ignored
North American Free Trade Area (NAFTA)
• Question: What are the benefits of
NAFTA?
• Mexico
 from increased jobs as low cost
production moves south and will see
more rapid economic growth as a
result
• the U.S. and Canada
 access to a large and increasingly
prosperous market
 the lower prices for consumers from
goods produced in Mexico
 low cost labor and the ability to be
more competitive on world markets
Question: What are the drawbacks of NAFTA?
• Critics of NAFTA claimed that
 jobs would be lost and wage levels
would decline in the U.S. and Canada
 Mexican workers would emigrate
north
 pollution would increase due to
Mexico's laxer standards
 Mexico would lose its sovereignty
Question: How successful has NAFTA been?
• Research indicates that NAFTA’s early
impact was subtle, and both advocates and
detractors may have been guilty of
exaggeration
 trade between the three countries has
increased by 250 percent
 the members have become more
integrated
 productivity has increased in member
nations
 employment effects have been small
 Mexico has become more politically
stable
 Other Latin American countries would
like to join NAFTA
The Andean Community
• The Andean Pact
 formed in 1969 using the EU model
 had more or less failed by the mid-
1980s
 In the late 1980s, Latin American
governments began to adopt free
market economic policies
 was re-launched in 1990, and now
operates as a customs union
 signed an agreement in 2003 with
MERCOSUR to restart negotiations
towards the creation of a free trade
area
 current members include Bolivia,
Ecuador, Peru, and Columbia
 MERCOSUR
 originated in 1988 as a free trade pact
between Brazil and Argentina
 was expanded in 1990 to include
Paraguay and Uruguay
 MERCOSUR has been successful at
reducing trade barriers between
member states
 However, critics worry that
MERCOSUR is diverting trade rather
than creating trade, and local firms are
investing in industries that are not
competitive on a worldwide basis
 initially made progress on reducing
trade barriers between member states,
but more recently efforts have stalled
 current members include Brazil,
Argentina, Paraguay, Uruguay, and
Venezuela
Other Trade Pacts in the Americas
• There are two other trade pacts in the
Americas
 Central American Trade Agreement
– (CAFTA, 2005) - to lower trade
barriers between the U.S. and
members
 Costa Rica, El Salvador, Guatemala,
Honduras, Nicaragua, and the
Dominican Republic
 CARICOM (1973) - a customs union
between English-speaking Caribbean
 six members formed the Caribbean
Single Market and Economy (CSME)
in 2006 to lower trade barriers and
harmonize macro-economic and
monetary policy between members.
• Neither pact has achieved its goals yet
Free Trade of the Americas
• Talks began in April 1998 to establish a Free
Trade of the Americas (FTAA) by 2005
• The FTAA was not established as planned and
now support from the U.S. and Brazil is mixed
 the U.S. wants stricter enforcement if
intellectual property rights
 Brazil and Argentina want the U.S. to
eliminate agricultural subsidies and
tariffs
• If the FTAA is established, it will have major
implications for cross-border trade and
investment flows within the hemisphere
 would create a free trade area of 850
million people who accounted for
nearly $18 trillion in GDP in 2008
Economic Integration in Asia
• Various efforts at integration have been
attempted in Asia, but most exist in name only
 Association of Southeast Asian
Nations (ASEAN)
 Asia-Pacific Economic Cooperation
(APEC)
Association of Southeast Asian Nations (ASEAN)
(1967)
 currently includes Brunei, Indonesia,
Malaysia, the Philippines, Singapore,
Thailand, Vietnam, Myanmar, Laos,
and Cambodia
 wants to foster freer trade between
member countries and to achieve some
cooperation in their industrial policies
• An ASEAN Free Trade Area (AFTA)
between the six original members of ASEAN
came into effect to reduce import tariffs
among members in 2003
 ASEAN and AFTA are moving
towards establishing a free trade zone
 Vietnam, Laos, and Myanmar have all
joined
Asia-Pacific Economic Cooperation (APEC)
 was founded in (1990) to increase
multilateral cooperation in view of the
economic rise of the Pacific nations
and the growing interdependence
within the region
 has 21 members including the United
States, Japan, and China
 wants to increase multilateral
cooperation
 member states account for 55% of
world’s GNP, and 49% of world trade
Economic Integration in Africa
• There are nine trade blocs on the African
continent
• However, progress toward the establishment
of meaningful trade blocs has been slow
• Many countries believe that they need to
protect their industries from unfair foreign
competition making it difficult to create free
trade areas or customs unions
• The East African Community (EAC) was re-
launched in 2001, however so far, the effort
appears futile